Moody’s, S&P Must Face Fraud Claims in Subprime Suit

(Corrects description of analysts’ messages in ninth
paragraph of story published Aug. 18.)

Aug. 18 (Bloomberg) -- Moody’s Corp. and Standard & Poor’s
lost a bid for dismissal of fraud claims in a suit by investors
claiming the companies falsely assigned inflated ratings to
notes sold by Morgan Stanley that were backed by subprime
mortgages.

U.S. District Judge Shira Scheindlin yesterday declined a
request to throw out fraud claims against the two rating
companies and a claim of aiding and abetting fraud against
Morgan Stanley. Scheindlin narrowed the suit, dismissing claims
by three of the 15 plaintiffs.

Scheindlin also dismissed the investors’ fraud claims
against the bank and aiding-and-abetting claims against the
rating companies, ruling that it was the rating companies, not
Morgan Stanley, that issued the ratings.

The suit was filed in 2008 by institutional investors
including Abu Dhabi Commercial Bank, based in the United Arab
Emirates, and Washington’s King County, which includes Seattle,
in a structured investment vehicle named Cheyne. The investors
claim Morgan Stanley pressured the rating companies to give
erroneous investment-grade ratings to the notes.

Scheindlin also yesterday ordered the investors to explain
why their claims for negligent misrepresentation against Morgan
Stanley and the rating companies shouldn’t be thrown out. Those
claims weren’t part of the motion decided today.

“We’re pleased that the court, after examining the
evidence, has recognized the value of our fraud claims against
Morgan Stanley and the rating agencies,” said Daniel Drosman, a
lawyer with the firm Robbins Geller Rudman & Dowd LLP who
represents the investors.

“We are pleased that the court dismissed several claims
against Standard & Poor’s,” a spokesman for that firm, Edward
Sweeney, said in an e-mail. “Importantly, the court is also
requiring the plaintiffs to show cause why their negligent
misrepresentation claims should not be dismissed based upon a
recent favorable ruling of the Court of Appeals.”

The judge said the investors have offered sufficient
evidence for a jury to consider whether the ratings were
misleading when they were issued. She cited instant messages
between two S&P analysts after the Cheyne investment had been
issued. The judge said it would be up to a jury to decide
whether the messages are discussing Cheyne.

“That deal is ridiculous,” one analyst said, adding “We
should not be rating it.”

“We rate every deal,” the second analyst replied.

“It could be structured by cows and we would rate it,”
the first analyst replied.

Scheindlin also said that even if the messages refer to
other investments, if such evidence is admissible, a jury could
infer from them that S&P was in the practice of issuing ratings
it didn’t believe were accurate.

The case is Abu Dhabi Commercial Bank v. Morgan Stanley &
Co., 08-CV-7508, U.S. District Court, Southern District of New
York (Manhattan).